Perhaps you have heard the term microfinance before, or you have seen it mentioned in one of our other posts about financial inclusion. So, what is microfinance? In the financial world, it refers to ‘small’ money. These funds are borrowed from an institution that acts as a bank for people without access to services from traditional banks. Where did the need for microfinance come from, what is it used for, what makes it so important, and well, what is it? Let’s find out…
Why is microfinance important?
Some 1.7 billion —yes, billion—people still don’t have access to a bank account. For those people, going to a local bank and applying for a loan or a mortgage isn’t an option. It could be because they live in rural areas with little or no access to bank branches or because they lack proper identification. When nearly a fourth of the worlds’ population doesn’t have a bank account, it’s easy to see why an alternative needed to be found.
The World Bank’s data on microfinance shows that 16 million people are being helped with microfinance yearly. A figure that increases by 1.4% annually. Many thousands of different institutions worldwide are serving those people.
For people living paycheck to paycheck or for people trying to get out of poverty, turning a business idea into a reality can be the only way to financial freedom. Where can they get the money needed to act on their ideas? Friends and family are usually good sources of funding for small business endeavors, but what if the rest of your close circle is in similar financial circumstances? Therefore, many people turn to banks to get their business ideas off the ground.
Who is microfinance for?
While in theory anyone could seek out and ask for a service that microfinance provides, there are two key examples that stand out as the most common.
Individuals. Everyday people that have ideas to get out of poverty. Maybe they have crops to sell, products they want to produce, or a service they know they can provide. These people need the helping hand that a small loan offers to get them started!
Small businesses. For those that want to make an immediate change in their business, a small loan can be the best option.
What do people use microfinance for?
One of the main reasons people need microfinance is to escape poverty. Creating a way out of poverty for them and for their family is a noble cause. But how do people do it? Let’s look at a few examples.
Setting up a business. People can borrow a small amount, as little as $100, and with that, it could be enough to set up a market stall to sell fruit and/or vegetables that they have produced. As the business grows, so too does the amount people can borrow. Eventually, some people will open shops to sell their wares and it’s not uncommon for them to have a living area attached for them and their families. These microloans are what make it possible.
Expansion. Perhaps the person who needs the microloan already has a business that is up and running, but they can’t keep up with new demand for their products or services. It could be that they need new machinery, a bigger workspace, or to have more stock at hand.
Working capital. For most businesses around the world, there are months of the year that are extremely busy like the run-up to Christmas. Then some months that can be quiet like over the summer or in the case of a global pandemic. Regardless of the amount of work a business has, they always need working capital to weather the storm, be it good or bad.
There are, undoubtedly, many benefits to microfinance, but perhaps the most important one is financial inclusion. If these microloans can bring people closer to financial services, getting proper identification, and/or opening bank accounts, this can leave a long-lasting, positive effect on the lives of loanees and their families.